Chapter 4: Membership of the EU’s customs union
87.We also considered the implications of either remaining part of, or leaving, the EU’s customs union after Brexit. An overview of the customs union is given in Box 4.
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Under Articles 28, 30, 34, 35 and 36 TFEU, individual Member States are not permitted to introduce charges that have an effect equivalent to that of customs duties on goods; nor are they permitted to impose quantitative restrictions or quotas. This means Member States are obliged to allow goods that are legally produced and marketed in other Member States to be circulated and placed on their domestic markets. The EU’s customs union has a Common External Tariff, which is imposed on all goods imported from third countries. Uniform implementation of the Common External Tariff by customs authorities across the EU’s external borders is ensured through the Customs Union Code. Almost 80% of the revenue generated by tariffs go directly to the EU’s budget (in 2015, this made up 13.6% of the EU’s total budget).118 Goods imported into the EU need to comply with Single Market legislation. In support of this, the EU has legislated to harmonise regulations (such as product standards and safety requirements) and to enforce the principle of mutual recognition (which requires Member States to accept each other’s certification and conformity practices). To expedite this process for third countries, the EU has concluded a number of Mutual Recognition Agreements, recognising compliance procedures which demonstrate that goods meet the required EU standards. Goods imported into the EU need to follow ‘rules of origin’, which determine where a product and its components were produced in order to ensure that the correct customs duty is levied. If goods consist of materials from more than one country, special rules apply to determine which country will be judged to be the country of origin. This is based on the origins of the materials, the value added in the process, and where the final substantial production phase took place. Such formalities are not necessary for goods manufactured inside the customs union. The EU’s customs union is made up of EU Member States, and includes the Isle of Man and the Channel Islands.119 TurkeyFollowings its Association Agreement with the EU (the Ankara Agreement, signed in 1963), and the opening of accession negotiations, Turkey signed a customs union agreement with the EU in 1995.120 This stated that: “From the date of entry into force of this Decision, Turkey shall, in relation to countries which are not members of the Community, apply provisions and implementing measures which are substantially similar to those of the Community’s commercial policy.” Turkey’s customs union with the EU covers all industrial goods, but not agriculture (except processed agricultural products), services or public procurement. It also excludes the free movement of labour.121 Although Turkey and the EU have negotiated to extend and deepen their customs union agreement to include services and public procurement, these negotiations were suspended in 2002. Turkey imposes the EU’s Common External Tariff on all goods imported from non-EU countries that are covered by the customs agreement. Turkey has no involvement in decisions about the Common External Tariff or setting the direction of the Common Commercial Policy. It is also not able automatically to secure additional market access via EU FTAs with third countries, but these third countries have access to Turkey’s market. Turkey is expected to align itself to EU preferential tariffs by negotiating FTAs with countries the EU has concluded FTAs with, in order to gain access to their market. Turkey has signed FTAs with EFTA, a number of Eastern European and Middle Eastern countries and South Korea. The EU also foresees that Turkey will align its national legislation with a number of essential internal market rules, notably on industrial standards. |
Source: European Commission, ‘Trade: Countries and regions: Turkey’: http://ec.europa.eu/trade/policy/countries-and-regions/countries/turkey/ [accessed 28 November 2016] and written evidence from Dr Peter Holmes (ETG0011)
Remaining part of the EU’s customs union
88.The Committee considered whether and how it might possible for the UK to remain part of the EU’s customs union after Brexit. Dr Holmes argued that it would be “extremely hard”. The customs union was part of the foundation of the EU, enshrined in the Treaty of Rome, to such an extent that it was “not a separate entity that [EU] Member States all happen to belong to”.122
89.Instead, Dr Holmes said that what was “in principle available” to the UK after Brexit was to “have a customs union with the EU’s customs union”; Turkey was the only example of this.123 He noted that Turkey’s arrangement differed “sharply from the EU customs union itself”. Some of these differences are outlined in the following paragraphs.124
90. First, Dr Holmes noted that the EU-Turkey customs union was “incomplete”, in that there was not tariff-free trade on all goods between the EU and Turkey. For instance tariffs were still applied on agricultural goods.125 We note that the EU is an important export market and source of imports for the UK agricultural sector.126
91.Second, there remained customs checks on the border between Turkey and the EU (while within the EU internal customs checks have been abolished). Dr Holmes told us that while the 1995 agreement between Turkey and the EU removed customs duties, it was not a regulatory union and so did not abolish technical barriers to trade. This resulted in the EU inspecting Turkey’s goods, because it did not recognise Turkey’s conformity assessments. A series of Mutual Recognition Agreements were subsequently put in place, which had allowed more Turkish goods to enter the EU without further technical inspections. However, these agreements only applied in areas where the EU had harmonised its rules internally—in areas where Member States apply separate national rules, customs authorities retain the right to inspect Turkish goods.127 In return, Dr Pinar Artiran, Assistant Professor in Private International Law, Istanbul Bilgi University and WTO Chair Holder, noted that Turkey had also applied customs and ‘rules of origin’ checks on “woven fabrics and apparel” imported from the EU, even though they have already been “in free circulation in the EU”.128
92.Third, Dr Holmes said that “very strikingly, anti-dumping is still possible between the EU and Turkey”. This means that the EU and Turkey can impose duties on goods traded between them—the absence of which is one of the main benefits of a customs union.129 Dr Holmes cited a World Bank study which showed that in 2014, the EU had actual or proposed anti-dumping duties on $500 million of Turkish exports to the EU, and Turkey had actual or proposed anti-dumping duties on $1billion of EU exports.130
93.Fourth, Dr Artiran noted that a key feature of Turkey’s customs union with the EU was that “Turkey is expected to grant tariff-free access to goods from a third country with which the EU has negotiated a FTA, without necessarily having a vote or say in the negotiations”. She continued: the “EU decides the FTA partner, the scope and timing of the negotiations based on its own priorities without necessarily taking into account its customs union with Turkey”.131
94.Finally, Dr Holmes said there was “no sharing of customs revenue” between Turkey and the EU, which was somewhat anomalous: “If you are talking about a customs union, you have to ask: what happens to customs revenue on third-country goods? Does it go to the place where the good is actually consumed or is it shared?”132 Dr Artiran wrote that Turkey’s arrangement with the EU was that Common Customs Tariff revenue “would be collected by each party at the initial port of entry and … would accrue as income to the party collecting that revenue”.133
95.Asked whether the Government had met representatives from Turkey to discuss their participation in the EU’s customs union, Lord Price said he had meetings scheduled “in the very near future.”134
96.We note that these features of the Turkey-EU customs union arrangement might or might not apply to the UK if it remained part of the EU’s customs union after Brexit. They show that having a customs union arrangement with the EU without being an EU Member State could radically alter the way in which the customs union works, and reduce its corresponding benefits for the UK.
Trade with the Single Market
Goods
97.Dr Holmes explained that while the FTA and customs union models shared the benefit of “countries [agreeing] to remove tariff barriers on each other’s goods,” the unique feature of a customs union was that “in principle you do not have rules of origin so goods can flow completely freely … you do not have to stop goods at the border”.135
98.Rules of origin add costs through additional bureaucracy, including the difficulty of identifying the origin of goods with a complex supply chain, and an additional cost for consumers in importing goods.136 They also slow down the process of trade. In the words of Mr Mike Hawes, Chief Executive Officer, the Society of Motor Manufacturers and Traders: “If it passes borders, you need a customs validation, that creates some delay, and anything that delays creates cost.”137 Leaving the EU’s customs union would also involve developing an independent customs code, and the recruitment and retraining of customs officers.138 This is why the Japanese government, in its open letter to the UK and the EU on Brexit, said its first priority for Japanese businesses investing in the UK was “maintenance of the current tariff rates and customs clearance procedures”. It said being outside the customs union could mean that tariffs were “imposed twice, once for auto parts imported from the EU and again for the final products assembled in the UK to be exported to the EU, which would have [a] significant impact on their businesses.”139
99.The estimates of the cost to the UK of leaving the EU’s customs union are unclear. Open Europe estimated that applying rules of origin “could cost around 1–1.2% GDP”, though we note that Mr Raoul Ruparel, then Co-Director of Open Europe,140 described this cost as “not prohibitive”.141 A report commissioned by the Government in 2013 estimated that leaving the customs union could cost traders anything from 4–15% of the cost of goods sold.142 We will consider this in greater detail in our forthcoming report on UK-EU trade in goods after Brexit.
100.When asked what work the Government was doing to estimate the cost of leaving the EU’s customs union, Lord Bridges said his department was “doing a lot of work both on standards and rules of origin”. This work was being undertaken “sectorally and generically” and, in the case of rules of origin, “from the bottom up.”143 Lord Bridges also said he had “been in conversations with those involved in shipping and customs and business itself about exactly how those rules of origin operate”. He was “very struck by the means by which we now have digital technology and data to help in the customs process”. He continued: “we are absolutely aware of the administrative and implementation processes involved and what the various options might therefore entail.”144 Lord Price added that he had met the Swiss Trade Minister, who spoke “about the complexities of being outside the customs union in Switzerland, the procedures that they have to go through in importing and complexity in the costs”.145
101.We note that, according to reports in the media, the EU Exit and Trade Cabinet Committee146 in October considered a paper on leaving the EU’s customs union.147 However, neither Minister was able to estimate what complying with rules of origin might cost UK businesses. Lord Bridges said that “those are exactly the kinds of things we are looking at and working on as we speak … Your concern is my concern, and we are working on them”. When asked whether this information would be ready before Article 50 TEU was triggered, he responded: “We are working with due and deliberate but precise speed on these issues.”148
102.It is also unclear what impact leaving the EU’s customs union would have on the UK’s land border with the Republic of Ireland. This issue is addressed more fully in our report on the implications of Brexit for UK-Irish relations.
Services
103.Customs unions principally eliminate tariffs, and so do not directly facilitate trade in services, which often face non-tariff barriers. Dr Holmes noted that this distinction came with some complications: “more and more trade today consists of goods and services bundled together”. While the customs union did not have direct implications for services, “You cannot quite separate goods and services as much as you could in the past.”149
Trade with third countries
104.According to Dr Holmes, being part of any customs union came at a price: “you completely lose your ability to have your own independent external trade policy”. In areas covered by its customs union, Dr Holmes told us that Turkey had to have “exactly the same external trade policy” as the EU.150 Dr Artiran explained that Turkey’s commitments obliged it to “align itself on the Common Customs Tariff”, and to “adjust its customs tariff whenever necessary to take account of changes in the EU’s Common Customs Tariff”.151 Dr Holmes added that this meant that if there was another WTO round on lowering tariffs at a global level, “Turkey will have to go along with the EU position”.152
105.At the same time, Dr Holmes acknowledged that on those areas excluded from the customs union (such as agricultural goods), Turkey had freedom to negotiate FTAs with third countries.153 Dr Artiran agreed: “normally, Turkey is able to adopt a trade policy that is independent of the EU in areas not covered” by its customs union arrangement.154 Thus Turkey has a FTA with Georgia, agreed before the EU agreed its Deep and Comprehensive Free Trade Area with that country. This would be impossible in a full customs union.155
106.Such autonomy is, however, limited. Dr Holmes said that “pressure is on Turkey to sign agreements with countries that the EU has signed with”, and so to “follow behind” on areas covered by the customs union. Furthermore, because aspects of Turkey’s external trade policy were already determined and not negotiable, there would be “no great incentive for Canada [for example] to sign an identical agreement with Turkey” after CETA comes into force, since Canada would “in principle get market access into Turkey” anyway.156 Dr Artiran agreed that “Turkey becomes a vulnerable market for all countries which [sign FTAs] with the EU”. She described this as the source of a fundamental “asymmetry” in the customs union relationship between Turkey and the EU.157
107.We note that, as discussed in Chapter 2, “substantially all the trade” between the constituent parties of a customs union or free trade agreement must be liberalised. Sectoral agreements (on issues outside a customs union arrangement, in this case) could fall foul of Article XXIV and so might not be available to the UK were it to pursue membership of the customs union after Brexit.158
108.Bearing these factors in mind, Dr Holmes argued that the only form in which the UK should contemplate a customs union after Brexit was as a transitional arrangement: “If the UK left the EU, it is extremely hard to see how it could be part of the EU CU, except as part of a transition process.”159 Such a transitional arrangement would be unprecedented, and it would have to address the collection of customs revenue—whether that would be pooled or kept separate.160
109.The Government set up the new Department for International Trade (DIT) in July 2016. Its responsibilities include “developing and negotiating free trade agreements and market access deals with non-EU countries”,161 which suggests that the Government’s intention is to pursue a trade policy independent of the EU. Lord Price’s evidence also suggested that the Government was holding preliminary talks with third countries about future trade deals.162
Conclusions and recommendations
110.A key aspect of Brexit will be the feasibility of the UK remaining part of the customs union: the Government will need to decide early on whether or not the UK should do so. Although Turkey offers an example of a country outside the EU having a customs union with the EU, its participation is fundamentally different from the UK’s participation as a full EU Member State.
111.We are concerned that the Government appears not yet to have given sufficient consideration to the implications of leaving the EU’s customs union. While there may be opportunities to use digital technologies to streamline customs procedures, we are troubled that the Government presently has no estimate of the cost to businesses of administrative delays, compliance with customs checks, and the rules of origin if the UK left the customs union, and that it was unable to confirm whether or not such information would be available before triggering Article 50. Our concerns are made more acute by the implications of leaving the customs union for the UK’s land border with the Republic of Ireland.
112.Before Article 50 is triggered, the Government should undertake and conclude a rigorous analysis of the cost to business and to taxpayers of leaving the customs union. We will also investigate these issues in greater detail in our follow-up report on future UK-EU trade in goods.
113.A customs union with the EU similar to Turkey’s arrangement would require the UK to adopt the EU’s standards and regulations for all goods under the customs union arrangement. There would also be common customs procedures.
114.Despite the Government informing us that all the possible frameworks for future trade between the UK and the EU were ‘on the table’, the remit of the new Department for International Trade suggests that the Government intends to pursue an independent trade policy.
115.Seeking to pursue an independent trade policy while coming to an arrangement with the EU’s customs union, as Turkey has done, is a difficult balancing act, which would severely curtail the UK’s leverage in future trade negotiations with third countries.
116.If it has not done so already, the Government should consider the merits of remaining a member of the EU’s customs union as an interim arrangement, until the terms of the UK’s future trading relationship with the EU have been settled. We are also conscious of the practical challenges of introducing full customs controls within two years.
118 European Commission, ‘Customs duties mean revenue’: https://ec.europa.eu/taxation_customs/facts-figures/customs-duties-mean-revenue_en [accessed 28 November 2016]
119 The Isle of Man and the Channel Islands are part of the EU’s customs union by virtue of Protocol No. 3 to the UK’s Treaty of Accession. This protocol is limited in scope, and the Channel Islands and the Isle of Man do not, for example, participate in the EU’s Single Market in services or financial services. The Channel Islands Brussels Office, The EU and the Channel Islands: http://www.channelislands.eu/eu-and-the-channel-islands/ [accessed 28 November 2016]. Gibraltar is outside the EU’s customs union. Grant Thornton, ‘European Union Status: Gibraltar’: http://www.grantthornton.gi/gibraltar/european-union-status/ [accessed 28 November 2016]. We consider the position of the Channel Islands and Gibraltar with regard to Brexit in a forthcoming report.
120 Decision No 1/95 96/142/EC, 22 December 1995, of the EC-Turkey Association Council on implementing the final phase of the Customs Union, OJ L 35
121 We note that the agreement between the EU and Turkey includes a standstill clause on the free movement of service providers. See Selen Akses, ‘Where does Turkey stand in the EU’s new trade and investment strategy?’ Hurriyet Daily News (16 November 2016): http://www.hurriyetdailynews.com/where-does-turkey-stand-in-the-eus-new-trade-and-investment-strategy.aspx?pageID=238&nID=91187&NewsCatID=396 [accessed 28 November 2016]
126 For example, more than 70% of the UK’s exports and imports of food and non-alcoholic beverages are with the EU. See Food and Drink Federation, A new UK-EU relationship priorities for the food and drink manufacturing industry (July 2016), p 4: https://www.fdf.org.uk/corporate_pubs/FDF-Manifesto-A-New-UK-EU-Relationship.pdf [accessed 28 November 2016]
137 Oral evidence taken before the EU External Affairs Sub-Committee, 3 November 2016 (Session 2016–17), Q 67 (Mike Hawes)
138 Oral evidence taken before the EU External Affairs Sub-Committee, 20 October 2016 (Session 2016–17), Q 3 (Steve Elliott)
139 Government of Japan, Japan’s Message to the United Kingdom and the European Union (4 September 2016): http://www.mofa.go.jp/files/000185466.pdf [accessed 28 November 2016]
140 Mr Ruparel was the Co-Director of Open Europe at the time at which he gave evidence to the Committee. He is now a Specialist Advisor to the Secretary of State for Exiting the European Union.
141 Raoul Ruparel, Open Europe, Post Brexit, leaving the customs union is a no-brainer (28 July 2016): http://openeurope.org.uk/today/blog/post-brexit-leaving-customs-union-no-brainer/ [accessed 28 October 2016]
142 Centre for Economic Policy Research, Trade and Investment -Balance of Competence Review, Project Report (November 2013), p 58: https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/271784/bis-14-512-trade-and-investment-balance-of-competence-review-project-report.pdf [accessed 28 November 2016]
146 Cabinet Office, ‘List of Cabinet Committees and their members at 18 October 2016’: https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/560912/cabinet_committees_list_18_10_2016.pdf [accessed 29 November 2016]
147 Anushka Asthana, Rowena Mason and Owen Bowcott, ‘Theresa May given stark warning about leaving customs union’, The Guardian (18 October 2016): https://www.theguardian.com/politics/2016/oct/18/theresa-may-given-stark-warning-about-leaving-customs-union [accessed 28 November 2016]
151 These commitments derive from Decision No 1/95, 96/142/EC, 22 December 1995, of the EC-Turkey Association Council of on implementing the final phase of the customs union, OJ L 135; Written evidence from Dr Pinar Artiran (ETG0012)
158 Article XXIV, General Agreement on Tariffs and Trade 1994: https://www.wto.org/english/res_e/booksp_e/analytic_index_e/gatt1994_09_e.htm [accessed 22 November 2016]
161 Department for International Trade, ‘About us’: https://www.gov.uk/government/organisations/department-for-international-trade/about [accessed 22 November 2016]